The Stock Picker's Guide to Apple

LONDON -- Successful investors use a disciplined approach to picking stocks, and checklists can be a great way to make sure you've covered all the bases.

In this series I'm subjecting companies to scrutiny under five headings: prospects, performance, management, safety, and valuation. How does Apple (NASDAQ: AAPL) measure up?

1. ProspectsThe market for smartphones in the developed world is still growing, but the big opportunity is in emerging markets. By inventing novel products such as the iPad, Apple has helped to create new markets.

Samsung is snapping at Apple's heels. In the fast-moving world of consumer technology, success and failure turn on product innovation, design, marketing and fashion.

An entrenched market position creates something of an economic moat, but one that can be breached by cash-rich raiders.

2.PerformanceApple can boast more than 10 years of rising sales, operating profit, and earnings per share.

Margins have also moved up over the past five years, and many companies could only envy Apple's 2012 return on equity of 43%.

3.ManagementApple has stumbled a couple of times since the loss of its founder, Steve Jobs, such as the ill-fated introduction of its own Maps app.

New CEO Tim Cook is not of such a creative bent himself, and it remains to be seen whether the company has sufficiently internalized a culture of innovation. The company looks in safe hands, but its prosperity lies in taking creative risks.

4. Safety$140 billion of cash and no debt guarantees Apple's financial health. Its cash conversion is over 100%, so the cash pile keeps on growing.

That gives it a large room for maneuvering, and scope to sweeten investors with bigger dividends and share buybacks.

5. ValuationApple's smooth profit progression hasn't been matched by its share price. The shares are some 40% off their 12-month high.

That's because Apple's price-to-earnings ratio has declined as earnings have improved, from a multiple of 55 times in 2004 to 40 times in 2007 to 20 times in 2012. It's now trading on a P/E of 9.5, half the S&P 500 average.

Apple bulls think the ratio has overshot. The projected yield of 2.6%, with masses of headroom for dividend increases, should offer some support.

ConclusionIt's understandable why Apple generates polarized views. It's a bargain if it can continue to deliver what it has in the past. But it's at the top of a very fragile tree, without the inspirational leader who took it there.

There are safer growth stories. The Motley Fool has picked out one of them as its top growth share for 2013. This company's industry has been transformed by the Internet, but it has adapted to the digital age so well that it's thriving and paying increasing dividends.

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment icon found on every comment.